Classifying Independent Contractors vs. Employees

The practice of paying service providers as independent contractors has been getting a lot of attention from the IRS recently, because in their opinion many employees are wrongly characterized as independent contractors. Small business owners often have questions about the distinction between the two characterizations. To determine whether the person providing service is an employee or an independent contractor, all information that provides evidence of the degree of control exercised by the payer versus the degree of independence exercised by the payee must be considered.

Caution: If you incorrectly classify an employee as an independent contractor, you can be held liable for employment taxes for that worker, plus a penalty. Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors.

Who is an Independent Contractor?

A general rule is that you, the payer, have the right to control or direct only the result of the work done by an independent contractor, and not the means and methods of accomplishing the result. That means the payee must determine when and where to work, what equipment to use, whether to hire assistants, etc.

Who is an Employee?

Anyone who performs services for you is your employee if you can control what will be done and how it will be done. This is so even when you give the employee freedom of action. What matters is that you have the right to control the details of how the services are performed.

If you have any questions about whether individuals you are paying are employees or independent contractors please contact us for assistance in making the determination. You can also refer to IRS Publication 15-A for additional examples.

http://www.irs.gov/publications/p15a/ar02.html#en_US_2012_publink1000169466